26 February 2009

In brief:
Following on from our summary
of the Federal Government's White Paper on its
Carbon Pollution Reduction Scheme, Australia's Low Pollution Future,
Partner Jim Parker and Senior Associate Robyn Glindemann discuss in
greater detail the White Paper's proposals on the treatment of forestry,
agriculture, offsets and energy efficiency initiatives under the Scheme. This
is the ninth and final in a series of articles that examines
in more depth the principal proposals contained in the White Paper.

How does it affect you?

While the Carbon Pollution Reduction Scheme will not
extend to deforestation, Kyoto-compliant forests will be able to opt
voluntarily into the Scheme. This option will be available to entities that
have an enforceable right to the carbon in the forest and that satisfy certain
other elegibility requirements.

By opting into the Scheme, these entities will qualify for carbon permits,
the number of which will be calculated using an 'average crediting' approach
and taking into account the risk of forest destruction. They will also be
liable to surrender carbon permits to account for forest-related emissions (eg
due to forest harvesting or destruction), although this exposure will be
limited to the number of carbon permits issued for carbon sequestration by the
forest.

Non-energy emissions from agriculture will not be covered by the Scheme until
2015 at the earliest, with a decision on their coverage to be made in 2013.
The Government will commence a work program this year to consider issues arising
from the possible inclusion of agriculture in the Scheme, and interested
parties should ensure they participate in this process.

In 2013 the Government will decide whether – and, if so, what – domestic
offsets will be able to be used to acquit Scheme liabilities. However, the
scope for such offsets will be very limited, and the costs of monitoring and
verifying the associated emissions abatement is likely to be substantial.

The federal, state and territory governments are seeking to
develop national energy efficiency initiatives that will educate
consumers about, and encourage consumers to adopt, energy efficient technologies
and practices.

The White Paper position in relation to the treatment of forestry
activities under the Carbon Pollution Reduction Scheme
(CPRS) is largely the same
as that set out in the Green
Paper, although more
details have now been disclosed in relation to the forestry entities that will
be able to participate in the CPRS.

The broad principles are:

Because of the complexity and costs of
including deforestation in the CPRS (including the fact that it may occur over
a large number of small landholdings), and because deforestation is already
regulated at a state or territory level, deforestation activities will not be
covered by the CPRS. However, the Government will continue to explore
incentive-based mechanisms (including offsets) to reduce emissions from
deforestation. 1

All reforestation activities that meet Kyoto Protocol compliance
requirements may opt into the CPRS from its commencement, thereby becoming
eligible to generate carbon permits (to be known as Australian Emissions Units
(AEUs)) through sequestering carbon dioxide and
becoming liable to acquit AEUs to cover the deemed release of such carbon
dioxide (eg where the forest is harvested or destroyed by bushfire or
disease). The Australian definition of a forest for Kyoto Protocol purposes is
one that is established by positive human action on or after 1 January 1990 on
previously cleared land, that comprises trees with a potential height of at
least two metres and crown cover of at least 20 per cent, and that covers a
minimum of 0.2 hectares in area.2

For the future, the CPRS will only cover
those forests that are recognised under international greenhouse gas
accounting rules. For this purpose, the Government appears to be inclined to
mandate an improved version of the National Carbon Accounting System and
Toolbox as the methodology to be used to estimate emissions and carbon
sequestration. However, if the applicable methodology is to change, including
as a result of a material unanticipated change in the international accounting
rules, the Government will give five years' notice of that
change.3

An issue that has been the subject of
considerable debate is whether permitting reforestation activities to generate
AEUs that can be traded will encourage the conversion of agricultural land to
forests, potentially undermining food security. This was raised in a recent
Senate inquiry, in the context of changes to the federal income
tax legislation to allow tax deductions for carbon sequestration activities.4
Studies by the Australian Bureau of
Agricultural and Resource Economics (ABARE) indicate
that most forests that will opt into the CPRS will be not-for-harvest forests
that will 'lock up' land for a long time, and will tend to be established on
marginal or less productive agricultural land.

Who will be able to participate?

To be eligible to participate in the CPRS, the forest entity must have an
enforceable right to the sequestered carbon. This will include the owner or
lessee of the land on which the forest is situated or, if the owner or lessee
has granted a right to the carbon to a third party, may also include the owner
of that carbon right.

The White Paper recognises that some state carbon rights
regimes may not grant the holders of those rights sufficiently enforceable
rights to enable participation in the CPRS, and so it is likely that some state
carbon rights regimes will need to be amended before carbon rights holders in
those states can opt into the CPRS.

In addition,
the forest entity will need to be accredited for CPRS purposes, which means that
it will need to meet certain other requirements, such as a demonstrated capacity
to meet its CPRS obligations or being a fit and proper person. It may also be
required to place a restrictive covenant on the land title,5 or to provide some other form of security (such as
a bank guarantee), pending the discharge of its CPRS liabilities in respect of
the forest. These liabilities will crystallise if and when the forest is
harvested or destroyed and not regenerated, because the accredited forest entity
will then be required to surrender AEUs for the carbon that is deemed to be
'released'.

The precise criteria for determining eligibility as an
accredited forest entity, and what amendments will be needed to state carbon
rights legislation in order to allow holders to participate in the CPRS, is
still to be determined.

It has been
acknowledged previously in other environmental regulatory reform processes that
the development and maintenance of large plantations (whether for timber
production or carbon sequestration) has the potential to intercept large volumes
of water that might otherwise flow into catchments. The National Water
Initiative explicitly recognises this potential impact, and signatory
governments are working on a set of common definitions and best practice
principles for managing water interception by plantations.6
Relevantly, the White Paper states that the regulator will not have the capacity
to access natural resource management implications of reforestation activities
when deciding whether a given forest should receive AEUs under the CPRS. Thus,
the onus will be on the accredited forest entity to ensure that obligations
under or requirements imposed by other natural resources management programs
will be met, and to manage the interaction of those programs with CPRS
obligations and requirements.

submit emissions estimation reports at least once
every five years but not more than once a year;8
and

notify the regulator of any major changes in forest
management, and of any natural disturbance events, that could materially
change emissions estimates.9

Issue of AEUs for sequestered carbon: The regulator will only issue AEUs to an accredited forest entity in
respect of a registered forest where the regulator has accepted the entity's
emissions estimation report and the claimed sequestration has actually occurred
(ie the trees have grown). Where a forest is registered during the first Kyoto
Protocol commitment period (2008–12), the accredited forest entity will be
entitled to receive AEUs for increases in the 2008 carbon stock. Where a forest
is registered after the first Kyoto Protocol commitment period, then, unless the
regulator otherwise agrees, the accredited forest entity will generally only be
entitled to receive AEUs for net greenhouse gas removals10
from the date of registration of the forest
(or, if the forest is registered within two years of its establishment, for all
net greenhouse gas removals).

For the purpose of calculating an accredited forest
entity's entitlement to AEUs, the regulator will use an 'average crediting'
approach under which AEUs will be issued on a stand-by-stand basis for projected
net greenhouse gas removals up to a permit limit determined by the regulator.
These projected net greenhouse gas removals will be based on the emissions
estimation plan submitted by the accredited forest entity (as updated from time
to time). The permit limit will be based on projected net greenhouse gas
removals over a long period of time (such as 70 years), reduced by a 'risk of
reversal buffer' that is to be determined by the regulator and is intended to
account for the risk associated with natural events like fire, storms, drought
and pests.11
Where a
forest is intended to be periodically harvested, its permit limit (and
consequent allocation of AEUs) will be less than that of a forest that is never
harvested, because its net carbon sequestration over the same period of time
will be less. The permit level will be subject to adjustment for changes in
forest management, international emissions accounting rules and prescribed
estimation methodologies (which, in turn, may entail either the issue of
additional AEUs or the surrender of AEUs).

AEUs will not be issued for greenhouse gas removals that have been sold as
offsets, because that would mean that this abatement is double-counted.

Liability to surrender AEUs: The use of an 'average
crediting' approach, and the incorporation of a risk of reversal buffer, will
reduce the likelihood that an accredited forest entity becomes liable to
surrender AEUs for forest emissions. In effect, this is only likely to occur if
the forest is harvested or destroyed and is not replanted or allowed to
regenerate. Moreover, an accredited forest entity's liability to surrender AEUs
will be capped at the number of AEUs that have been issued for carbon
sequestration by that forest.

Looking overseas, Australia is a participant in the $200
million International Forest Carbon Initiative, which is intended to support
developing countries (such as Papua New Guinea and East Timor) in reducing
emissions from deforestation and forest degradation. The Government has also
indicated that it supports incentives to reduce emissions from these sources
being included in any post-2012 international climate change agreement.12However, the Government is not prepared to accept credits generated by
these activities into the CPRS until robust methodologies for estimating and
accrediting these kinds of abatement have been established, and those credits
are recognised for the purpose of compliance with international emissions
reduction targets.13

Non-energy emissions from agriculture (eg emissions from livestock and
cropping) are Australia's second-largest source of greenhouse gas emissions,
making up approximately 16 per cent of the nation's account.

In its Green Paper, the Government stated that, while it
was not practical to include agriculture as a covered sector from the start of
the CPRS, it was disposed to extend the CPRS to non-energy agricultural
emissions in 2015, although a final decision on this matter would be made in
2013. This position remains unchanged in the White Paper. However, this does not
mean that the agriculture sector will not be affected by the CPRS: the prices of
fuel, fertilisers, electricity and freight will increase, potentially causing a
substantial reduction in farm profits.14

Recognising both the complexity of measuring non-energy agricultural
emissions (which vary substantially depending on farming practices, climate and
geography) and the administrative costs and difficulties of covering the high
number of relatively small participants in this sector, the Government has
proposed a work program, to commence this year, to consider the following issues
in consultation with the agriculture sector:

economic analysis of the impacts of coverage and of
different points of liability under the CPRS;

analysis of the supply chains for agricultural
products to identify cost-effective points of obligation;

research aimed at improving emissions estimation
techniques and the development of emissions reporting capability; and

a voluntary trial of reporting under the National
Greenhouse and Energy Reporting Scheme, commencing no later than
2011.15

However, the Government's preliminary view is that, if
the agriculture sector is included in the CPRS, the liability to surrender AEUs
should be imposed 'off-farm' (eg on fertiliser suppliers, abattoirs and
dairies), rather than on farming entities themselves, and that 'on-farm'
abatement should be encouraged by other measures. If the Government does decide
to include agriculture in the CPRS, the eligibility of the agriculture sector
for emissions-intensive trade-exposed industry assistance will be evaluated
against the general principles that apply to that assistance. This has the potential to increase considerably the proportion
of AEUs that are allocated for free rather than auctioned.

The potential for generating domestic offsets that can
be used to acquit CPRS liabilities will be relatively limited because such
offsets will only be able to be created in the small number of sectors that are
not covered by the CPRS. Moreover, even in uncovered sectors, it may be
difficult to demonstrate that any emissions abatement is truly additional,
because the Government intends, where practicable, to achieve emissions
reductions in these sectors by imposing other mandatory emissions reduction
measures. This, together with the cost and complexity of establishing the
required baselines and monitoring and verifying the level of emissions
abatement, suggests that there will, in practice, be very little scope for the
creation of domestic offsets that can be used to acquit CPRS liabilities.
(Equally, there is very little scope for the creation of domestic offsets that
can be traded in the voluntary market and that meet the Government's proposed National Carbon Offset Standard. In the White Paper, the Government identifies
the management of emissions from savanna burning as an activity that could
potentially create offsets for use in the CPRS.

In any event, the Government has stated that it will only consider the scope for including
domestic offsets in the CPRS in 2013, when the Government makes its decision on
the inclusion of agriculture in the CPRS. Pending that decision, offsets from activities
such as soil biosequestration will not be included in the CPRS. But, even then,
the Government may be reluctant to allow offsets to be included in the CPRS
where they are not recognised under international greenhouse gas accounting
rules. To do so would create a discontinuity between Australia's international
obligations and its ability to meet those obligations through the
CPRS.16

In contrast to the Government's position, the federal
Liberal Party's recently announced 'Green Carbon Initiative' highlights
biosequestration and improved farming practices as a means of reducing
Australia's greenhouse gas emissions, and proposes a biocarbon strategy that
will focus on increasing sequestration in soils through improved management
practices, the production of biochar or charcoal for addition to the soil, and
increased tree planting and revegetation.17

Action on energy efficiency is one of the major elements of the Federal
Government's climate change mitigation strategy. Many forms of energy efficiency
improvements are economic even without the CPRS but, because they generally
involve up-front capital investment (as in the case of solar water heating),
they have been unpopular with consumers and businesses. Although the CPRS will
increase energy costs, and so encourage improvements in energy efficiency, the
Government is concerned to ensure that businesses and households are made aware
of available low-emissions technologies and practices. It therefore intends to
use some of the $130 million that it has allocated to the Climate Change Action
Fund information stream to fund awareness of these technologies and practices
over the first five years of the CPRS.

In addition, at the Council of Australian Governments
(COAG) meeting on 2
October 2008, COAG agreed to develop a National Strategy for Energy Efficiency
to put in place programs designed to assist households and businesses to reduce
their energy costs prior to the introduction of the CPRS. One aspect of this
program is the development of national legislation for appliance energy
performance standards and labelling. Further, in response to the global
financial crisis, the Federal Government will provide $3.9 billion towards
(among other things) home insulation. At a subsequent meeting, COAG will
consider increasing building energy efficiency requirements and mandating the
disclosure of building energy efficiency. Meanwhile, some states, such as
Victoria, are introducing energy efficiency schemes that incentivise electricity
retailers to encourage household consumers to become more energy efficient.

Having said this, there is much more work that could be done in promoting
energy efficiency, including through providing tax incentives for the
construction of new green buildings and the retrofit of existing buildings to
green standards.

The Federal Government is proposing to release an exposure draft of
the CPRS legislation for public comment in March 2009. If you would like further
information in regard to the White Paper proposals that will form the basis of
this draft legislation, or any other information, please contact any of the
people below.

Footnotes

Standing Committee on Rural and Regional Affairs and Transport,
Implementation, operation and administration of the legislation
underpinning Carbon Sink Forests, September 2008.

Although consideration might need to be given to State Transfer of Land
legislation to ensure such that a covenant could be created and registered.

See the National Water Commission website,
www.nwc.gov.au, for more information about
forestry and water management: in particular, the NWC's Waterlines Report No 5
– February 2008, Approaches to, and challenges of, managing
interception.

This could occur in advance of the planned commencement of the CPRS
on 1 July 2010.

The Government is also investigating the alternative of having the
regulator prepare such emissions estimates.

Alternatively, the risk of reversal buffer could be implemented by
reducing the periodic allocation of AEUs to the accredited forest entity,
enabling the buffer reduction to be tailored to the forest's risk profile over
time.

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